News & Insights

Payroll tax compliance by medical and allied health practices is in the spotlight following a recent decision of the New South Wales Civil and Administrative Tribunal (NCAT), increasing the risk of selection of such practices for payroll tax audit and exposure to retrospective payroll tax liabilities (together with associated penalties and interest).

In the recent case of Thomas and Naaz Pty Ltd v Chief Commissioner of State Revenue [2021] NSWCATAD 259 (Thomas), NCAT held that a service entity which operated three medical centres in NSW was liable for payroll tax in respect of the payments made to doctors of those clinics.

Although NCAT’s decision was determined in NSW, it has relevance across jurisdictions given the harmonisation of payroll tax legislation in Australia. In particular, the risk of audit activity by the State Revenue Office in Victoria following the decision in Thomas is high, given the decision’s broad consistency with a decision of a higher court in Victoria which related to an optometry practice – being the case of The Optical Superstore Pty Ltd & Ors v Commissioner of State Revenue [2019] VSCA 197 (Optical Superstore) determined by the Victorian Court of Appeal.

payroll tax overview

Payroll tax is a state-based tax levied on employers whose monthly wages exceed a threshold (currently $58,333 in Victoria and $101,918 for a 31 day month in NSW). Payroll tax rates differ from jurisdiction to jurisdiction (and in Victoria’s case, between regional and urban employers), but present a significant impost on businesses (particularly when poorly managed and incurred retrospectively).

Payroll tax is payable in respect of ‘taxable wages’. Whilst it is clear that wages paid to an individual who meets the common law concept of employee constitute ‘taxable wages’, provisions in the harmonised legislation extend the concept of ‘wages’ to cover certain amounts ‘paid or payable’ to a contractor under a ‘relevant contract’ – whether the contractor is a sole trader or otherwise provides the services through a company, trust or partnership.

A ‘relevant contract’ includes a contract under which a person supplies services to another person for or in relation to the performance of work in the course of a business carried on by that first person.

the facts in thomas

In Thomas’ case, the company operated three medical centres in NSW and entered into contracts with resident doctors, pursuant to which the company provided rooms for the doctors use together with administrative and support services (such as nurses, reception facilities and the processing of payments from patients and Medicare).

While the agreements stipulated that the doctors were independent contractors (each holding their own Australian Business Number), the agreements also imposed extensive obligations on the doctors, including the obligation to promote the interests of the clinics, meet roster commitments and provide notice for planned leave in accordance with the company’s leave policy. The agreements also bound the doctors to restrictive covenants preventing the doctors from trading within 5km of the clinic for two years after their departure.

The other key features of payments in respect of the doctors’ contracts were:

1. the company provided rooms at the clinics from which the doctors provided medical services to patients;
2. the doctors bulk billed the patients, with Medicare benefits assigned to the doctors;
3. although the doctors had the option of dealing with Medicare directly, in most cases the clinics submitted the claims for benefits to Medicare;
4. Medicare paid the benefits to the clinic’s bank account;
5. administrative staff who were employees of the company recorded and reconciled payments; and
6. each fortnight, the clinic would pay the doctors 70% of the claims received from Medicare, with the remaining 30% retained by the company as a service fee.

NCAT’s decision in thomas

NCAT decided that the service agreements were ‘relevant contracts’ and, as such, the payments to the doctors were ‘taxable wages’ subject to payroll tax.

NCAT’s decision was based largely on the fact that the service agreements stipulated the doctors’ hours of work, leave policy, record retention policy and the doctors’ obligation to promote the business of the clinics. NCAT did not consider it relevant that the clinics claimed Medicare benefits on behalf of the doctors and held these funds on trust for the doctors before paying them 70% of the total.

However, in considering the exemptions to payroll tax under the NSW regime and whether engagement agreements were ‘relevant contracts’, the court also sought evidence that the doctors ‘provided their services to the public generally’. Critically, the Court accepted letters submitted by 2 of the 40 contracted doctors to the effect that they operated in other clinics as sufficient evidence as to their independence in conducting their practices. The result was that Medicare benefits and funds received in respect of these two doctors were not deemed ‘wages’.

However, NCAT accepted evidence submitted by 2 of the 40 contracted doctors who were able to demonstrate that they operated in other clinics and had a sufficient level of independence in conducting their practices, and therefore met the exemption on the basis that they practised independently. The payments to those two doctors were not deemed to be taxable wages and therefore were not subject to payroll tax.

earlier decision of optical superstore

NCAT’s decision in Thomas was not unexpected after the Victorian Court of Appeal’s decision in Optical Superstore, which left the allied health industry (and its advisers) with a sense of dread that the natural extension of the findings in that case to other health practices would have disastrous payroll tax consequences.

In Optical Superstore, the relevant company operated an optical dispensary business as trustee of four related trusts. The trustee entered into agreements with the optometrists (or entities associated with the optometrists) whereby the optometrists conducted eye tests for members of the public in the stores. The agreements referred to the trustee as the ‘landlord’ and the relevant optometrist as the ‘tenant’, and otherwise had the following features:

1. the landlord was to provide premises (i.e. the store) in which the tenant provided optometry services to the public and assisted with sales of optical products;
2. when the optometrists charged fees to patients and bulk billed Medicare for patient consultations, they were required to nominate the trustee’s bank account to accept payments;
3. at the end of each month, the optometrists submitted a record of the number of hours they spent in a given store and once the number of hours were signed off, a monthly payment was made to the optometrist by reference to the number of hours worked. The optometrists did not issue invoices to the trustee as the payments were considered to be a return of moneys belonging to the optometrists; and
4. the balance of the consultation fees were retained by the trustee as payment of the occupancy fee, with the trustee invoiced to the optometrists on a quarterly basis.

The Victorian Commissioner of State Revenue (Commissioner) assessed the trustee for payroll tax on the basis that the agreements between the trustee and the optometrists were ‘relevant contracts’ and therefore the payments made by the trustee to the optometrists were ‘taxable wages’. The trustee appealed to the Victorian Civil and Administrative Tribunal, which held that the payments to the optometrists were distributions of funds held by the trustee on express trust for the optometrists rather than payments ‘for or in relation to the performance of work’ and as such, were not taxable wages for payroll tax purposes.

The Supreme Court of Victoria dismissed the Commissioner’s subsequent appeal, holding that the payments to the optometrists were not ‘payments’ for the purpose of calculating the trustee’s ‘taxable wages’ as the term ‘payment’ does not extend to a return of money by one person to another in circumstances where the second person earned that money from providing services to a third party and directed the money be deposited in the bank account of the first person and held in trust.

The Court of Appeal however took a drastically different view, allowing the Commissioner’s appeal on the basis that the phrase ‘paid or payable‘ in the payroll tax legislation means simply the provision of money from one person to another – regardless of any pre-existing legal entitlement to that money by the recipient. The Court of Appeal stated [at paragraph 67]:

“The ordinary meaning of ‘payment’ readily embraces a payment of money to a person beneficially entitled to that money. When the entitlement is recognised and the money is provided to the person, it has been ‘paid’ to that person.”

The Court of Appeal noted that the ‘relevant contractor’ provisions were plainly intended to subject payments to payroll tax that would not otherwise fall within the usual definition of ‘wages’.   Accordingly, the fact there were ‘payments’ by the trustee, coupled with such payments being made based on the number of hours worked by the optometrists and approved by the store manager, exposed the trustee to a payroll tax liability.

Having regard to the similarities between the facts of Optical Superstore and Thomas around the collection and distribution of patient receipts, and control of hours worked by specialists, the decision in Thomas is concerning for many practice structures but not unsurprising.

practical tax implications of the decisions in thomas and optical superstore

Following the decisions in Thomas and Optical Superstore, service arrangements that were previously considered appropriate and low risk are now likely to carry a significant risk of audit and assessment (including retrospectively), and should be structurally adjusted and/or completely reconsidered moving forward.

The operators of any medical, dental or allied health practice that collects fees on behalf of its specialists – or otherwise imposes expectations on working hour commitments, leave and restraints – should immediately review their existing practice agreements, with a view to:

1. prepare for an audit, and consider the risk and quantify the exposure of any historical payroll tax exposure; and
2. reconsider the practical necessity of existing practice structures (such as the control of patient and Medicare payments) and the possibility of restructuring arrangements moving forward with specialists.

Other specialist practices outside the health field should also be conscious of the risk of being caught within the ‘relevant contract’ provisions if they share similar features to those in Thomas and Optical Superstore.

With significant expertise structuring professional practices and in the management of large and contentious payroll tax audits, our Commercial and Tax teams are well placed to assist practices assess their historical payroll tax exposure risk and to advise on any necessary adjustments to the practice’s arrangements with specialists and day-to-day operational policies.

If your practice has received a payroll tax audit letter from a revenue authority, or you would otherwise like to consider your practice’s risk position moving forward, please reach out to our teams to discuss.